Ukraine-Russia gas talks could leave EU in the cold

Europe could be plunged into an energy crisis this winter if last-ditch talks on Wednesday fail to see Russia resume gas flows to Ukraine.

Russia severed gas supplies to Ukraine in June in a payment dispute that was aggravated by Moscow's incursions into the east Ukraine this year. Months of Europe-mediated negotiations between the two countries have failed to break the deadlock, piquing concerns of energy shortages if flows through Ukraine to the rest of Europe do not resume.

Bloomberg | Bloomberg | Getty Images

A new round of talks will start in Brussels on Wednesday afternoon, with outgoing European Commission Vice-President Guenther Oettinger chairing talks between Russian Energy Minister Alexander Novak and Ukrainian Energy Minister Yuri Prodan. These are aimed at securing gas supplies through winter to Europe and Ukraine—where temperatures have already fallen below zero Celsius.

However, prospects for a resolution are uncertain. Oettinger has publicly express doubts, telling German television on Wednesday that there was a 50 percent chance of a breakthrough, according to Reuters.

"Public statements have been encouraging, but privately the tone is much less optimistic, with neither side seemingly that willing to cut a deal over gas, and significant hurdles still remaining," said Timothy Ash, head of emerging market research ex-Africa at Standard Bank, in a note this week.

The biggest stumbling block is Ukraine's outstanding gas debt to Russia. Russian state-owned gas giant Gazprom claims Ukraine owes it $5.3 billion. Ukraine must replay $3.1 billion by the end of the year.

However, Ukraine's dire financial straits mean it is unable to pay off its debts without further international assistance, having already received a $17 billion bailout from the International Monetary Fund.

It is also doubtful how Ukraine will afford fresh gas payments through winter. The country must pay $385 per 100 meters cubed of gas by advanced monthly payment.

"Ukraine is pretty desperate given that they haven't received any gas from Russia since the summer," Liza Ermolenko, emerging markets economist at Capital Economics, told CNBC on Wednesday. "How much Ukraine is willing to give in depends on what price Russia will insist on."

The victory of pro-Western reformist parties in Ukrainian elections over the weekend adds an extra aspect to the deadlock, as it could antagonize Russia and rebels in the east of Ukraine. On the flip side, pro-Russia parties did slightly better than expected, winning almost 10 percent of the vote.

Meanwhile, European policymakers are eager to avoid a repeat of January 2009, when gas supplies to some EU countries were stopped for several days after Gazprom accused Ukraine of siphoning gas. A similar disagreement also saw Russia cut off all gas supplies to Ukraine in January 2006.

The EU imports two-thirds of all its natural gas, with Russia the biggest supplier. About half of its primary energy consumption is spent on heating—which becomes increasingly important as temperatures drop.

In an echo of the European Central Bank's financial sector resilience assessment, Brussels announced the results of stress tests for Europe's energy sector this month. These were designed to assess how 38 European countries would cope if gas imports from Russia were disrupted or halted for a period of between one and six months.

The results showed that prolonged supply disruption would have a "substantial" impact on Europe and could see private households left in the cold. Finland, Macedonia, Bosnia and Serbia would likely be worst hit, missing at least 60 percent of their gas needs.